Hutchison China MediTech — To China and beyond

HCM published interim results on 30 July. We highlight below the progress made since our outlook note Eye of the Tiger published on 6 July 2020, which details HCM’s key assets and strategic outlook on a China and international level. Exhibits 1 and 2 highlight the plethora of catalysts ahead in 2020/21.

Under the amendment to the Elunate (fruquintinib) deal terms with LLY, from 1 October HCM will be responsible for the development and execution of medical detailing and promotion as well as local/regional marketing activities in China. Both companies will continue to collaborate in the formulation and execution of a national marketing strategy and events in China for Elunate. LLY will retain its principle role and consolidate sales and, subject to meeting pre-agreed sales targets, will pay HCM ~70–80% of Elunate sales in the form of royalties, manufacturing costs and service payments. Importantly, the deal enables HCM to realize synergies in marketing Elunate alongside surufatinib, using its now 320-strong China oncology commercial team (representing a threefold increase in the number of LLY reps detailing the product) covering 1,300 clinical centers. We note there is no upfront payment by either company relating to this amendment.

In-market sales of Elunate as provided by Lilly were $14m in H120 ($11.4m in H119), while actual volumes increased by 174% (as defined by total numbers of treatment cycles: ~18,800 in H120 vs ~6,850 in H119). This reflects inclusion in the National Reimbursement Drug List (NRDL), which has led to increased access (albeit at a 63% reduction to the original list price of $3,260 per cycle). Pricing could come under further downward pressure, although likely modest, at the next NRDL renewal in 2021. HCM believes Elunate has to date attained a market penetration rate of 14% in third/fourth-line metastatic colorectal cancer (mCRC), implying a market opportunity of $200m in the mCRC monotherapy indication. HCM aims to increase the penetration rate to 40% over the next few years. Our forecast peak sales of $202m in China for CRC (unchanged) assume fruquintinib use as monotherapy and in combination with PD-1 inhibitor use once approved. While Elunate’s sales evolution in CRC will be a focus point in 2020, other milestones include progressing fruquintinib in other indications in China and launch of a global registration study, FRESCO-2 in mCRC. We note that a Phase Ib expansion study evaluating fruquintinib and Tyvyt combination is underway at the RP2D in China targeting five solid tumor indications.

Elunate’s US fast-track designation means fruquintinib could be the third innovation asset to launch in the US in 2023. The FDA has agreed that a New Drug Application (NDA) can be submitted on the basis of two-Phase III trials (FRESCO and FRESCO-2). FRESCO is the China-based Phase III trial that formed the basis of Elunate’s approval. The global Phase III registration trial (FRESCO-2) in third- and fourth-line metastatic CRC has now initiated as expected (mid 2020), patient screening is underway and first patient dosing is expected soon. The company aims to recruit over 500 patients across 130 clinical sites in 10 countries globally and the study is targeted to complete recruitment by year-end 2021. HCM retains the full development and commercial rights to fruquintinib outside China.

HCM has been building its China oncology commercial team ahead of surufatinib launch to 320 personnel (HCM plans to expand the oncology team to 900+ by end-2023 to support future product launches), with the intention of having full coverage of all provinces in mainland China in preparation for launch in late 2020. HCM’s long-established commercial platform in China consists of ~2,300 personnel covering prescription drug sales and distribution in 230 cities, highlighting the depth of experience there is in the company’s operations in China.

The China NDA for non-pancreatic NET (epNET) was accepted in November 2019 and was subsequently granted priority review; we anticipate approval and launch in late 2020. HCM estimates that non-pancreatic NET represents ~80% of NET cases in China. At the interim results HCM announced that it has filed the China NDA for pancreatic NET (pNET), we expect approval in this subset in 2021, which means a label encompassing all NETs regardless of origin.

In the US, the FDA has already granted surufatinib a fast-track designation for both epNET and pNET and an orphan drug designation for pNET, recognizing the need for targeted treatments in this subset. HCM will utilize a rolling submission (enabled by its fast-track designation) from late 2020 into early 2021 that allows completed sections of the NDA to be submitted to the FDA, which the agency will review on an ongoing basis. HCM has provided an update on Europe and is targeting a Marketing Authorisation Application (MAA) submission for NET during 2021. Lifecycle management for surufatinib is focused on PD1 combination approaches; HCM and BeiGene entered into a global PD-1 clinical collaboration in May 2020 to explore the combination of surufatinib with BeiGene’s PD-1 antibody, tislelizumab. HCM is exploring surufatinib in other combinations, including with Tuoyi in a Phase II trial in eight indications and in July, Innovent initiated a Phase I combining surufatinib with its China-approved PD-1 monoclonal antibody, Tyvyt. HCM is assessing its US commercial launch strategy for surufatinib in the US for readiness in late 2021; we believe HCM may build a small but focused salesforce or opt for a local partnering deal to co-commercialize the asset as it starts to expand on its US sales and marketing capabilities ahead of further oncology asset launches, starting with fruquintinib in 2023.

Partnered with AstraZeneca (AZN), savolitinib is being assessed in lung, kidney and gastric cancers. Its most advanced indication is for non-small cell lung cancer (NSCLC) – in China as monotherapy for MET exon 14 skipping NSCLC (the NDA submission was accepted for review by the China National Medical Products Administration (NMPA) in May 2020), and internationally in combination with AZN’s Tagrisso for MET-positive Tagrisso refractory NSCLC (top-line results are expected in 2021). The latter is a blockbuster opportunity being driven increasingly by Tagrisso moving further up the treatment paradigm, and top-line results from SAVANNAH (second-/third-line EGFRm+, Tagrisso refractory, MET-positive NSCLC in combination with Tagrisso), expected in 2021, could be registration-enabling in the US. Key additional 2020/21 milestones for this asset inflection include the start of the global registrational Phase III trial (SAVOIR2) in papillary renal cell carcinoma or PRCC.

Longevity for R&D-driven biopharmaceutical companies depend on having a pipeline of innovative assets spanning indications and development phases. This is even more imperative for HCM given its global aspirations to become a fully integrated oncology player. HCM has made progress in its preclinical and early stage R&D pipeline developed from its proprietary world class delivery engine (15-year plus track record in oncology with a fully integrated ~550 in-house scientific team). Importantly, a major shift recently is that future assets will be developed in parallel in China and globally. This will significantly reduce timelines to global launches down the line.

We value HCM at $6.69bn ($47.05/ADS) vs $6.3bn ($44.49/ADS) previously. The main cause of uplift is the impact of the Elunate deal terms to capture 70–80% of value vs our prior assumption that HCM would receive 15–25% royalties on sales. We use a risk-adjusted NPV method to discount future cash flows for the innovation platform (IP) (valuation of $5,238m). We use earnings-based multiples for HCM’s commercial platform (subsidiaries and JVs). We apply a 22.6x multiple to our forecast 2020 net attributable profit (equity in earnings of equity investees, net of tax) for the JVs of $42.8m, which yields a valuation of $966.6m. Our valuation reflects net cash of $254m at end June 2020 plus $100m net proceeds from the General Atlantic equity investment in July 2020 (we do not include the $103m of additional cash held at the JV level). Adding in a terminal value of $1,031.8m, offset by an unallocated cost NPV of $904.2m, leads us to our valuation of HCM of $6.69bn. Our sum-of-the-parts valuation does not include HCM’s early phase assets HMPL-453 (FGFR inhibitor), HMPL-306 (IDH1/2 inhibitor) or HMPL-309 (WT EGFR inhibitor), the preclinical assets or its discovery platform.

HCM reported consolidated group revenues of $106.8m in H120 (H119: $102.2m) and a group net loss of $49.7m (H119: $45.4m).Commercial Platform (CP) reported consolidated H120 sales of $99.0m (+4% as reported, +9% CER; H119: $94.9m), driven by the prescription drugs business, which now includes Elunate-related manufacturing sales and royalties. Total consolidated net income from CP increased 14% (+19% CER) to $35.5m (H119: $31.0m). The innovation platform (IP) reported consolidated revenues of $7.8m in H120 (H119: $7.3m) related to service fee payments from AZN and LLY. IP reported a net loss of $73.6m (H119: $67.1m). For FY20, HCM has guided to an adjusted non-GAAP IP segment operating loss of $180–210m and adjusted non-GAAP group net cash flow excluding financing activities of $140–160m.

We maintain forecast R&D expenses of $183.0m in 2020 and $210.0m in 2021 (on a reported GAAP basis), reflecting the substantial need for investment in the burgeoning clinical trial programs across the IP division, including the increased investment in China and global trials plus the initiation of combination strategies across the portfolio. With the likely launch of surufatinib in China by end 2020 and the US in 2022, we expect sales and marketing expenses to accelerate significantly as HCM builds out its global commercial operations. We forecast $20m capex in 2020 and subsequent years as HCM breaks ground this year in a new manufacturing facility in Shanghai. HCM expects the new facility to cost $110–140m over a four-year period financed through a bank loan of 7–10 years’ duration. During H120, the CP division contributed strongly to both group profits and cash, HCM received a dividend of $35.3m (H119: $18.2m) from its non-consolidated CP joint ventures, SHPL (Prescription Drugs) and HBYS (Consumer Health).

We now forecast net losses at group level of $162.9m in 2020 and $152.8m in 2021, as we have marginally increased 2021 sales forecasts to $303.9m and now include the land compensation agreement (see below). HCM reported a strong cash position, with available cash resources of $500m (at 30 June 2020) at group level (cash and cash equivalents and short-term investments of $281m, and unutilized bank borrowing facilities of $119.3m minus $27m in debt). Furthermore, post period end in July 2020, HCM received $100m from the equity investment from General Atlantic plus warrants granted for an additional $100m in 18 months (we assume the share price in 2021 will likely be higher than the exercise price of the warrant and thus forecast the additional $100m net proceeds is raised). HCM is well funded and has access to a further $119m in additional unutilized banking facilities and as of 30 June 2020, SHPL and HBYS held $103.3m (31 December 2019: $62.7m) in cash and cash equivalents with no outstanding bank loans.

During H120 HCM announced that HBYS has come to an agreement with the Guangzhou government for the planned return of HBYS’s vacant land (HBYS Plot 2, a ~30,000 square meter site). HBYS will receive cash compensation of up to $95m in several stages over the next year as the transaction progresses to completion. We expect that ~40% of the compensation received will make its way to HCM via special dividends, which will be reinvested in the business.